Res Judicata Part 2: What about Bankruptcy Court?

Remember a few months ago, when I talked about the concept of res judicata in Tennessee and how, in some situations, a smart plaintiff will include all relevant causes of action in its initial action? That way, the plaintiff may be able to avoid re-litigating similar issues later.

In that post, I noted that it can be a critical issue in bankruptcy cases, where a state court judgment for fraud can potentially fast-track a non-dischargeability finding under 11 U.S.C. Sec. 523.

Specifically, to do that, the plaintiff needs to plead specific facts and causes of action that would satisfy the elements of 11 U.S.C. Sec. 523 (but in the state court proceeding). In order to convince the bankruptcy courts, however, to apply issue preclusion, the plaintiff generally also has to actually litigate the matter, i.e. the judgment can’t have been based on a default judgment.

As a quick recap, here’s the typical checklist that a bankruptcy court may consider. Were the issues in the prior proceeding:

  • identical with those in the subsequent proceeding;
  • actually litigated;
  • necessarily decided in a final judgment on the merits; and
  • asserted against the same party or someone in privity.

The question that comes up, then, is whether a default judgment has issue preclusive effect? As you can guess from the above, in most cases, a default judgment (i.e. one that is entered solely because the defendant doesn’t respond) is not deemed to be “actually litigated.”

But, two pending cases from August 2019 suggest that courts are looking at these issues.

They are: Creech v. Viruet (In re Creech), 18-12584 (11th Cir. Aug. 7, 2019) (full copy here); the Draka v. Andrea (In re Andrea), 18-96014 (N.D. Ill. Aug. 6, 2019) (full copy here).

These are really interesting cases, and they are worth a reivew, if only to see the heightened standards that a bankruptcy court will apply in 523 actions. Which, by itself, is the primary reason so many creditors want courts to grant issue preclusive effect to default judgments.

In the end, it’s a short-circuit to avoid the relief that the Bankruptcy Code provides to debtors, so it’s a disfavored move. I’d be surprised if a default judgment will satisfy that burden.

Author: David

I am a creditors rights attorney with Bone McAllester Norton PLLC in Nashville, Tennessee.

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